The ECB finally released the details of the new bond buying program called Outright Monetary Operations. One of the things that made me wonder is the following: The ECB justified the new program on the grounds that convertibility risk does not allow the monetary transmission mechanism to work properly with periphery interest rates being much higher than the core and not reacting to ECB rate cuts. Nevertheless, the program will be activated for countries that request EFSF/ESM assistance and will only be used to assist current program countries to regain market access in the future. It sounds really strange to stress an urgent and real problem and use it to announce a program that will only be implemented in the future, under strict conditionality without addressing the current actual problem of high interest rates (evident especially in Greece and Portugal).

The fact that the SMP will remain senior while OMT will be pari passu to private holders is quite puzzling, especially since both are considered monetary instruments. As another commentator has stated, the ECB is not a preferred creditor (it only buys bonds in the secondary market) but a ‘preferred investor’. My feeling is that the ECB will eventually avoid participating in any other future debt restructures.

I ‘ve already stated my view on how to make ECB purchases more effective. The ECB should pledge to immediately remit any monetary profits (due to discounts and interest payments) to the issuing country, roll over its holdings (for as long as it considers the monetary mechanism not working properly) and issue ECB marketable debt certificates in order to sterilize its holdings instead of term deposits.

The OMT has definitely bought some more time to Euopean countries. Still, strict conditionality will only work to push periphery countries further into recession and eventually hurt debt sustainability by reducing GDP. On the other hand, the monetary union mechanisms do allow for large capital movements without threatening the survival of the Euro project while placing a cap on interest payment deficit (since Target2 liabilities only pay the ECB MRO rate). ECB bond buying and ESM/EFSF assistance are necessary parts of these mechanisms.

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